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The Welfare Implications of Non-Patentable Financial Innovations

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  • Helios HERRERA

    (ITAM- Centro de Investigacion Economica)

  • Enrique SCHROTH

    (HEC-University of Lausanne and FAME)

Abstract

Investment Banks invest in R&D to design innovative securities even when imitation is possible, i.e., when innovations cannot be patented. We show how a financial institution can profit from the development of financial products even if they are unpatentable. For certain types of financial products innovating investment banks have an information advantage over imitators. This information advantage makes them better competitors and market leaders. The mere possibility of costless imitation drives innovators’ profits down, but still keeps them positive. The absence of patents allows part of the surplus generated by the innovation to be allocated to investors. The extent of surplus sharing depends on the degree of asymmetry in the information owned by imitators and innovators and on the total number of innovators. The larger this asymmetry, the higher the innovator’s profits and the lower the investor’s surplus. With more than one innovator all the surplus goes to investors.

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Bibliographic Info

Paper provided by International Center for Financial Asset Management and Engineering in its series FAME Research Paper Series with number rp82.

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Date of creation: Mar 2001
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Handle: RePEc:fam:rpseri:rp82

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Related research

Keywords: Financial innovation; imperfect imitation; patents;

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  1. Miller, Merton H., 1986. "Financial Innovation: The Last Twenty Years and the Next," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 21(04), pages 459-471, December.
  2. Jean Tirole, 1988. "The Theory of Industrial Organization," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262200716, December.
  3. Tufano, Peter, 1989. "Financial innovation and first-mover advantages," Journal of Financial Economics, Elsevier, vol. 25(2), pages 213-240, December.
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